Mortgage BasicsEverything You Need to Know About Mortgage Interest Deduction

Everything You Need to Know About Mortgage Interest Deduction

In this world, nothing is certain except death and taxes,” famously said Benjamin Franklin. People rarely get excited at the thought of the grueling work filling their taxes, but their mood will likely perk up when it comes to tax deductions. These expenses allow taxpayers to reduce their taxable income and, therefore, the amount of money they owe to the government once all is said and done.

While owning a property is notoriously expensive, including regular maintenance, taxes, and mortgage payments, it also allows homeowners to reduce qualify for some tax deductions, mainly through their mortgage payments.

Read on to find out how to use mortgage interest deductions to reduce your taxes and avoid leaving money on the table.

What is mortgage interest deduction? 

The mortgage interest deduction allows property owners to reduce their taxable income by deducting the interest they paid throughout the year on a loan contracted to buy, build, or significantly improve their home. It is an itemized deduction.

Mortgage interest deductions can be used on a house, but also any type of dwelling as long as it includes basic living accommodations, such as sleeping, cooking, and bathroom facilities. Therefore, you can utilize mortgage interest deduction if you live in a co-op, an apartment, a condo, a mobile home, or a houseboat, as long as you use the property as collateral to secure the loan.

While mortgage interest deductions are typically used against a mortgage, other loans – such as home equity loans, home equity lines of credit (HELOC), and second mortgages – may qualify. You may also use the mortgage interest deduction if you are using the loan to purchase the house from an ex-partner during a divorce. However, keep in mind that the previous requirements (the property is used as collateral and the loan is used to buy, build, or improve it) must still be satisfied.

How much mortgage interest can I deduct in 2022? 

The maximum amount you can deduct using the mortgage interest tax incentive depends on when the lender issued the loan, the amount of the mortgage, and how the proceeds were used.

There are no limits if you contracted the loan before October 13, 1987. If the loan was issued after that date and before December 16, 2017, for a house purchased before April 1, 2018, you may deduct the mortgage interest up to $1 million (or $500,000 if married and filing separately.) However, if you contracted the loan more recently, you may only deduct interests up to $750,000 if you are single or married filing jointly, or $375,000 each if you are married separately. 

How to calculate mortgage interest deductions?

If you purchased your property using a loan issued by an institutional lender and paid more than $600 of mortgage interest in the past year, the loan issuer will send you a Form 1098 and send a copy to the IRS. The amount listed on this document is fully deductible and should be reported on line 10 of Schedule A of Form 1040.

You can also use an online tax deduction calculator, which will determine the mortgage interest deduction you qualify for depending on your loan and tax bracket. 

Keep in mind that mortgage interest deductions only allow you to deduct the interest you pay throughout the life of the loan, but not the amount you pay towards the principal. Therefore, the amount you may be able to deduct decreases over time as you progressively repay your loan.

How to deduct mortgage interest?

Before you deduct your mortgage interest from your taxes, you will need to pick between itemized deduction and standard deduction. Depending on your household situation and your expenses throughout the year, it may make more sense, saving you both time and money, to opt for the standard deduction. However, if you think that itemized deductions will help you reduce your taxable income further, here is how to deduct your mortgage interest from your taxes.

  • Obtain your Form 1098 from your mortgage provider. If you have not received it already, it may be time to check in with them.
  • Check IRS Publication 936 to see if your loan qualifies for a mortgage interest deduction. Keep in mind that you may also be eligible for special deductions – if your received assistance from a state housing finance agency “Hardest Hit Fund” program or an Emergency Homeowners’ Loan Program, for example. For more complex situations, your best bet is to contact a qualified tax professional who can guide you regarding the best steps to follow.
  • Complete the “interest you paid” section on Schedule A. Fill out Line 8 with the amount provided on Form 1098.
  • After gathering information for all the itemized deductions you may qualify for, enter the total on Line 17.
  • Transfer the total amount of deductions on Line 9 of your 1040 or 1040-SR.

Talk with your tax advisor if you have any concerns or need answers about your situation.

Is mortgage interest on a second home deductible?

You may deduct the mortgage interest paid on a second home or vacation home (including a timeshare) as long as it was used as collateral for the loan. There is no requirement regarding the amount of time you spend in the house unless you use it as an income property as well.

If you rent the property at least part of the year, you must stay in the house at least 14 days per year or 10% of the number of days the home is rented, whichever is longer, to qualify for a mortgage interest deduction. If you rent the property for more extended periods, the IRS considers the house to be a rental property.

Besides, you may only use mortgage interest deductions on one property besides your primary residence.

Can you deduct mortgage interest on a rental property?

Rental properties do not qualify for mortgage interest reductions directly. However, since they are considered a business expense, you may still deduct your mortgage interest by filling out Schedule E on your tax return.

In addition, as a landlord, you may be able to deduct the following expenses from your rental income:

  • Property taxes
  • Operating expenses that allow you to keep your rental property in good living conditions and business running, such as legal fees, advertising, maintenance-related costs, utilities, and insurance.
  • Depreciation
  • Repairs

Do you have to itemize to deduct mortgage interest?

 If you want to take advantage of the mortgage interest deduction, you will need to itemize your tax deductions. However, in many cases, it is more advantageous and significantly less labor-intensive to take the standard deduction – a no-questions-asked flat fee reducing your taxable income – rather than going through the hassle of itemized reductions.

Depending on your tax bracket and the number of other deductions you may qualify for (medical expenses, property taxes, charitable donations, etc.), the standard deduction may be higher than the itemized one. In 2021, the standard deduction is equivalent to $12,550 for single taxpayers, $25,100 for married filing jointly, $12,550 for married filing separately, and $18,800 for heads of households.

You will need to choose between itemized and standard deductions when filing your taxes and forfeit the other option.

What is deductible?

You can find details regarding which items qualify for mortgage deductions in IRS Publication 936. They include the following items as long as the loan satisfies the requirements previously outlined (the loan must be used to buy, improve, or build the property, which is used as collateral and include all living facilities):  

  • Interest on the mortgage for your primary residence as long as it satisfies the requirements
  • Interest on the mortgage for a secondary home
  • Interest on a home equity loan or line of credit
  • Points paid on your mortgage as long as they meet all of the requirements:
    • The mortgage was used towards your primary residence;
    • Paying points is an established practice in your area;
    • The points weren’t more than the amount generally charged in that area;
    • The points aren’t for closing costs;
    • Your down payment is higher than the points;
    • The points are computed as a percentage of your loan;
    • The points are on your settlement statement;
    • You use the cash method of accounting when you file your taxes; and
    • You use your loan to buy or build your main home.
  • Late payment charges on a mortgage payment (minus the costs of services performed in connection with your mortgage, such as administrative charges.)
  • Prepayment penalties
  • Mortgage insurance premiums as long as your adjusted gross income is below $100,000 ($50,000 for married filing separately) and if the insurance contract was issued after 2006

What is not deductible? 

The following expenses are not considered to be part of your interest payments and may not be used towards mortgage interest deductions:

  • Payments made towards the principal of the loan, including extra payments
  • Homeowners insurance
  • Title insurance and the costs for services provided during the closing process, such as appraisal, inspections, notary work, and so on
  • Moving costs
  • Deposits, down payments, or earnest money you forfeited
  • Interests accrued on a reverse mortgage
  • Payments made while you were living on the property before the purchase was finalized – for example, during a rent-to-own situation
  • Loan placement fees

Every person’s financial situation is unique. If you are unsure how to file taxes, remember to consult your local tax advisor for guidance and recommendations pertaining to your circumstances.

Alix Barnaud

After graduating with a Master’s degree in marketing from Sciences Po Paris and a career as a real estate appraiser, Alix Barnaud renewed her lifelong passion for writing. She is a content writer and copywriter specializing in real estate and finds endless fascination in the connection between real estate, economic trends, and social changes. In her free time, she enjoys hiking, yoga, and traveling.